Oct 08, 2008

Do Free Markets exist?

There's a lot of talk these days about the "failure of the free market". But do free markets actually exist?

A free market is one where the price of a good or service is purely based on how much buyers are prepared to pay. Any market that involves government subsidies or tax breaks is therefore not a free market, since the price of the good or service is affected by the government intervention.

For example, the housing marketplace is not a free market because the government provides tax breaks for homeowners that makes purchasing a house artifically more attractive than renting one. In addition, it allows a home seller to pocket up to $250,000 of profit with no capital gains tax. The government is effectively lowering the cost of home ownership at the expense of renters.

Many people think that a free market implies an unregulated market. This is not true. It's entirely appropriate for a government to enact laws that protect people from antisocial activities such as pollution or misleading advertising.

Healthcare, energy, farming and banking are all examples of markets that are not free. So the phrase "failure of the free market" is misleading since - as far as I can tell - they don't exist.

Comments

Of course, the flipside of this is how eerily close it is to the "no true Scotsman" fallacy: a free-market economist pronounces that the free market will never fail like this and, when presented with such a failure, responds that "it wasn't a *true* free market".

As I pointed out, the mortgage industry is not a free market and therefore the current crisis is not an example of a free market failure.

Indeed, there's plenty of evidence that it's directly related to the results of government interference with interest rates, mortgage guarantees and the federally-mandated expansion of Fannie Mae and Freddy Mac.

It's doubtful that the crisis would have occurred in a free market, especially with some government regulation (which as I mentioned is not incompatible with a free market).

Differentiating between laws meant to improve transparency (mark-to-market) and laws meant as social engineering (federally encouraged sub-prime lending) seems useful. So far the Democrats have primarily blamed the former, the Republicans the latter, but there was pretty clearly a failure of both kinds. I'm curious to see what the balance of blame turns out to be.

One interesting thing about the above division: most anti-pollution laws are written so that they're of the second type.

There is plenty of evidence that free markets work. I'm pointing out that - contrary to popular belief - many markets these days are not free at all. I, and most Libertarians that I know, are more than happy to discuss the topic intelligently.